China stock market

ChiNext companies’ first-quarter earnings growth seen slowing as firms scale back acquisitions

Brokerages GF and Guotai Junan estimate slower earnings growth for small-caps after regulator tightened asset-purchase rules

PUBLISHED : Wednesday, 12 April, 2017, 6:12pm
UPDATED : Wednesday, 12 April, 2017, 10:15pm

Profit growth for companies listed on the mainland’s start-up board probably slowed in the first quarter as firms scaled back asset purchases amid tighter regulatory scrutiny, according to analysts’ projections.

Companies trading on the ChiNext board – a Chinese version of the tech-heavy US Nasdaq exchange – may report 27 per cent profit growth in the first three months of 2017, down from 36 per cent for the whole of 2016, according to an estimate by GF Securities.

The pessimistic forecast is shared by Guotai Junan Securities, which expects earnings growth to slow to 28 per cent from 30 per cent in the previous quarter. Both brokerages’ projections exclude food giant Guangdong Wens Foodstuff Group, whose earnings make up about 10 per cent of all ChiNext companies, as the pig farmer’s forecast of a roughly 50 per cent drop in first-quarter earnings would distort the data.

We are shunning ChiNext companies because valuations are our primary concern
Wang Zheng, Shanghai Jingxi Investment Management

Analysts attribute the drop in earnings growth to ChiNext-listed firms’ slower pace of acquiring smaller rivals and assets from affiliates, after the China Securities Regulatory Commission (CSRC) tightened the rules on listed companies’ mergers and acquisitions last year to prevent malpractice. Asset purchases and acquisitions contributed to more than 30 per cent of profit growth among ChiNext companies last year, according to Guotai Junan.

The weakness in earnings may further hold back the performance of the ChiNext index, which has been underperforming China’s benchmark Shanghai Composite Index this year, as investors have been pulling out of smaller companies, concerned about their stretched valuations. The gauge is now valued at 60 times earnings, more than three times the multiple of the Shanghai Composite of larger companies, even after a small-caps bubble burst in 2015.

“We are shunning ChiNext companies because valuations are our primary concern,” said Wang Zheng, chief investment officer at Shanghai Jingxi Investment Management. “To make matters worse, their earnings are a long way from catching up with valuations now that they don’t have the help of outside asset purchases.”

With tougher regulations on mergers and acquisitions, more importance will be attached to companies’ organic growth in the future
Guotai Junan analysts

All ChiNext companies are required by the Shenzhen Stock Exchange to release their first-quarter earnings estimates before April 10.

Among the larger companies, internet equipment maker Wangsu Science & Technology said its profit for the period probably fell as much as 30 per cent from a year ago, citing intensified competition and declining product prices. Beijing Enlight Media said profit may have fallen up to 20 per cent because of a lack of blockbuster movies.

The ChiNext board, which was created in 2009 to facilitate direct financing by smaller companies such as start-ups, now accommodates 623 companies on the Shenzhen bourse. The stock gauge has dropped 3.3 per cent in 2017, compared with a 5.5 per cent gain in the Shanghai Composite.

The CSRC tightened its approvals of asset purchases by ChiNext companies last year to protect small investors, as the prices of target companies or assets were often found to be artificially inflated and the stock prices would swing wildly on insider trading.

“With tougher regulations on mergers and acquisitions, more importance will be attached to companies’ organic growth in the future,” said Guotai Junan analysts led by Sun Jinju in a report. “Real growth companies will fall more in favour with the market.”